No abstract

This paper provides an analysis of the predictable components of monthly common stock and bond portfolio returns. Most of the predictability is associated with sensitivity to economic variables in a rational asset pricing model with multiple betas. The stock market risk premium is the most important for capturing predictable variation of the stock portfolios, while premiums associated with interest rate risks capture predictability of the bond returns. Time variation in the premium for beta risk is more important than changes in the betas.

The use of predetermined variables to represent public information and time‐variation has produced new insights about asset pricing models, but the literature on mutual fund performance has not exploited these insights. This paper advocates conditional performance evaluation in which the relevant expectations are conditioned on public information variables. We modify several classical performance measures to this end and find that the predetermined variables are both statistically and economically significant. Conditioning on public information controls for biases in traditional market timing models and makes the average performance of the mutual funds in our sample look better.